Why Kenyans are ‘borrowing from Peter to pay Paul’

Over the past 10 years mobile-based lending has grown in Kenya. Some estimates put the number of mobile lending platforms at 49. The industry is largely unregulated but includes major financial players. Banks such as Kenya Commercial Bank, Commercial Bank of Africa, Equity Bank and Co-op Bank offer instant mobile loans.

Since the early 2000s, Kenya has been touted as a centre of technological innovation from which novel financial offerings have emerged. M-Pesa is a well-known example. It is no surprise, therefore, that technology and unregulated lending have developed together so strongly in Kenya.

The digital loan services appear to be bridging the gap for Kenyans who don’t have formal bank accounts, or whose incomes are not stable enough to borrow from formal financial institutions. These services have improved access to loans, but there are questions about whether the poor are being abused in the process.

A survey released earlier this year showed that formal financial inclusion — access to financial products and services — had increased from 27 per cent of Kenya’s population in 2006 to 83 per cent. M-Pesa was launched in 2007. Mobile money services have benefited many people who would otherwise have remained unbanked.

The next logical step was to make loans available. The first mobile loans were issued in 2012 by Safaricom through M-Pesa. In 2017, the Financial Sector Deepening Kenya reported that the majority of Kenyans access digital credit for business purposes such as investing and paying salaries, and to meet everyday household needs. The implications of these findings are twofold. Digital credit can help small enterprises to scale and to manage their daily cash flow. It can also help households cope with things like medical emergencies. But 35 per cent of borrowing is for consumption, including ordinary household needs, airtime and personal or household goods. These are not the business or emergency needs envisaged by many in the investment world as a use for digital credit. Only 37 per cent of borrowers reported using digital credit for business, and seven per cent used it for emergencies.

Second, the speed and ease of access to credit through mobile applications has caused many borrowers to become heavily indebted. In Kenya, at least one of every five borrowers struggles to repay their loan. This is double the rate of non-performing commercial loans in conventional banking. Despite their small size, mobile loans are often very expensive. Interest rates are as high as 43 per cent and borrowers are charged for late payments. The mobile-based lending business model depends on constantly inviting people to borrow. 

It’s not always clear to customers what they will have to pay in fees and interest rates or what other terms they have agreed to. The model has been accused of making borrowers unknowingly surrender important parts of their personal data to third parties and waive their rights to dignity. There are concerns about how the business model may make people even more vulnerable. The most prominent is the debt culture that has become a by-product of mobile-based lending: borrowers fall into the trap of living on loans and accumulating bad debt.

So, what can be done to improve the system so that everyone benefits?

First, even though digital loans are low value, they may represent a significant share of the borrowers’ income. This means they will struggle to repay them. Second, some digital lenders are not regulated by the Central Bank of Kenya. Third, borrowers often take loans without fully understanding the terms and conditions. Fourth, with 49 digital lending platforms it is imperative that the lenders are monitored and evaluated for viability and compliance. Many mobile lending platforms are privately held (and some are foreign-owned) and are not subject to public disclosure laws.

Finally, changes to the current digital credit system across all the lending categories are needed. An obvious failure of the system allows borrowers to seek funds from several platforms at the same time, creating a “borrow from Peter to pay Paul” scenario.

Victor Owuor is a senior research associate at the University of Colorado-Boulder. ©The Conversation